Chapter 14. Stabilization Policy
Chapter 18. Stabilization Policy
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H.W. p. 460 #1
General discussion of activist vs. passive policy. Contrasts
McChesney Martin and Milton Friedman.
(McChesney Martin didn’t take away the punch bowl)
Full Employment Act of 1946 was key step.
Keynesian legacy. Countercyclical policy can help. Fiscal more
important than monetary.
Old issues: Monetary or fiscal? What was source of instability? IS
or LM; what is best indicator of policy tool (I or M, real
nominal, which version of G or T)? What is Ybar, or UN?
Slow or fast?
Criticism of intervention: Lags in implementation—inside lag
(perception, action) and outside lags—impact. Mentions long
and variable lags. Also notes existence of automatic stabilizers,
such as unemployment benefits.
Economic forecasting done by leading indicators, then by models.
Moreover, note mistakes in forecasting.
Fig. 14-1, p. 384. Forecasting the Recession of 1982
Fig. 15-1, p. 450. Forecasting the
Recession of 1982.
Missed the start, missed the end.
(predictions are averages of 20
models, reported by NBER)
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Milton Friedman, 1912-2006
Monetarism
Consumption function
(Introduced expectations into macro)
Flexible exchange rates
Monetary Growth rule
Leader of anti-government movement
Link to Friedman’s homepage
Friedman’s contributions:
Monetarism
Consumption function
Introduced expectations
Floating exchange rates
Monetary growth rule
Anti-government
Rational expectations theory is major criticism of intervention. The
only policy effect that has an impact on AD is a surprise.
Suggestion of a “paradigm shift.”
Lucas critique of models, and of sacrifice ratio.
(Someplace in here Mankiw mentions Christina Romer)
Robert Lucas
Rational Expectations:
Born 1937 in state of Washington
Parents were leftist, blue collar,
working class.
Undergraduate major in history at
U. of Chicago, where he has spent
most of his academic career.
Nobel Prize in 1995, primarily for
work in Rational Expectations.
Expectations adjust quickly
Only surprises affect the economy
Rules and credibility are better than
discretionary
Criticism of econometric models
Rules vs. discretion.
Balanced budget
Money growth rate
Monetary growth rate –Friedman and monetarists.
Monetary
Growth Rule i
Monetary Growth Rule ii
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Bernanke’s testimony 11/16/05
In his first extended public appearance since President Bush nominated
him to lead the Fed, Mr. Bernanke stoutly defended his proposal to base
monetary policy on an explicit target for inflation and asserted that he
would not weaken the central bank's "dual mandate" of promoting full
employment as well as stable prices.
And in describing his approach, he sharply distanced it from those of
some central banks that focus almost exclusively on an inflation
target and not at all on promoting growth. "I don't agree with that,"
Mr. Bernanke declared flatly
When confronted with passages from a textbook he had written, in
which he asserted that budget deficits tend to push up interest rates
and "crowd out" private investments, he conceded that "it's possible"
that tax cuts could cause more problems than they solve.
Zero inflation
Article on Bernanke and shift to zero
inflation
Some countries (and European Central Bank) have shifted to
inflation targeting.
Other Rules:
Targets for interest rates, exchange rates, stock market.
Time inconsistency. (cf. to Alexander Hamilton).
Taylor’s rule: let Fed. Funds rate = π + 0.5(π - 2.0) + 0.5(Y - Ybar)
Figure 14-1, p. 416. Federal Funds Rate: Actual and
Suggested
Figure 14-1, p. 416. Federal Funds
Rate: Actual and Suggested
Taylor Rule, p. 415: Fed. Funds rate = π + 0.5(π - 2.0) – 0.5 (Y - Ybar)
Other comments:
Fine tuning may have negative supply side impacts
Traditional distrust of politicians—political business cycle
Real world needs some discretion—Greenspan.
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Fig. 14-3, p. 398. Inflation and Central Bank
Independence
Fig. 15-2, p. 460. Inflation and Central
Bank Independence